January 1, 2011

Were confirmation needed that the American public is in a sour mood, the 2010 midterm elections provided it. As both pre-election and post-election surveys made clear, Americans are not only strongly dissatisfied with the state of the economy and the direction in which the country is headed, but with government efforts to improve them. As the Pew Research Center’s analysis of exit poll data concluded, “the outcome of this year’s election represented a repudiation of the political status quo…. Fully 74% said they were either angry or dissatisfied with the federal government, and 73% disapproved of the job Congress is doing.”

This outlook is in interesting contrast with many of the public’s views during the Great Depression of the 1930s, not only on economic, political and social issues, but also on the role of government in addressing them.

Quite unlike today’s public, what Depression-era Americans wanted from their government was, on many counts, more not less. And despite their far more dire economic straits, they remained more optimistic than today’s public. Nor did average Americans then turn their ire upon their Groton-Harvard-educated president — this despite his failure, over his first term in office, to bring a swift end to their hardship. FDR had his detractors but these tended to be fellow members of the social and economic elite.

Still, as now, the public had some reservations about the stretch of government power and found little consensus on specific policies with which to tackle the nation’s troubles.
Optimistic ‘Socialists’

Broadly representative measures of public opinion during the first years of the Depression are not available — the Gallup organization did not begin its regular polling operations until 1935. And in its early years of polling, Gallup asked few questions directly comparable with today’s more standardized sets. Moreover, its samples were heavily male, relatively well off and overwhelmingly white. However, a combined data set of Gallup polls for the years 1936 and1937, made available by the Roper Center, provides insight into the significant differences, but also notable similarities, between public opinion then and now.1

Bear in mind that while unemployment had receded from its 1933 peak, estimated at 24.9% by the economist Stanley Lebergott,2 it was still nearly 17% in 1936 and 14% in 1937.3 By contrast, today’s unemployment situation is far less dismal. To be sure, despite substantial job gains in October, unemployment remains stubbornly high relative to the norm of recent decades and the ranks of the long-term unemployed have risen sharply in recent months. But the current 9.8% official government rate, as painful as it is to jobless workers and their families, remains far below the levels that prevailed during most of the 1930s.

Still, despite their far higher and longer-lasting record of unemployment, Depression-era Americans remained hopeful for the future. About half (50%) expected general business conditions to improve over the next six months, while only 29% expected a worsening. And fully 60% thought that opportunities for getting ahead were better (45%) or at least as good (15%) as in their father’s day.

Today’s public is far gloomier about the economic outlook: Only 35% in an October Pew Research Center survey expected better economic conditions by October 2011, while 16% expected a still weaker economy. The Reagan-era recession found the public somewhat more hopeful than at present, but less optimistic than in the 1930s.4 In November 1982, with unemployment at its recession peak of nearly 11%, Americans believed their personal financial situation would improve over the next year by a 41%-to-22% margin.

However, the most striking difference between the 1930s and the present day is that, by the standards of today’s political parlance, average Americans of the mid-1930s revealed downright “socialistic” tendencies in many of their views about the proper role of government.

True, when asked to describe their political position, fewer than 2% of those surveyed were ready to describe themselves as “socialist” rather than as Republican, Democratic or independent. But by a lopsided margin of 54% to 34%, they expressed the opinion that if there were another depression (and fears of one were mounting), the government should follow the same spending pattern as FDR’s administration had followed before.

And, those surveyed said they supported Roosevelt, the architect of the New Deal’s expansive programs, over his 1936 Republican opponent, Alfred Landon by more than two-to-one (62%-30%).5
Pro-Government Preferences …

Among policies approved by roughly two-in-three in 1936-7, was the new Social Security program — this despite the fact that the questions asked about it focused on the compulsory equal monthly contributions by employers and employees rather than on any promised benefits at retirement.

Large majorities favored the federal government providing free medical care for those unable to pay (76%), helping state and local governments cover the costs of medical care for mothers at childbirth (74%), spending $25 million (big bucks in those days) to control venereal diseases (68%), and giving loans on “a long time and easy basis” to enable tenant farmers to buy the farms they then rented (73%).

Moreover, a 46%-plurality favored concentration of power in the federal, rather than state government (34% favored the latter).

Of course, the New Deal had many vocal critics. A favorite target was the WPA, the employer of some eight million workers over its eight-year lifetime.

Although these workers somehow managed to build such enduring monuments as La Guardia and Washington (now Reagan) National airports, Grand Coulee Dam, the Outer Drive in Chicago, San Francisco’s Bay Bridge and New York’s Triborough Bridge, as well as parks, schools, playgrounds, overpasses, golf courses and airfields scattered across the country, they were featured in many a cartoon as passing their time leaning on their shovels.6 In response, the WPA Theatre project produced a play satirizing that common criticism (see photo at right).

Some contemporaneous complaints have a familiar ring. In a 1935 radio broadcast, the president of the New York Economic Council saw it this way: “This, of course, is nothing but the same old European and Asiatic tyranny from which our ancestors fled Europe in order to establish real freedom.”

But this was not the majority view. Half of the public even supported enactment of a second NRA (National Recovery Administration), the New Deal agency declared unconstitutional by a Supreme Court that aimed to reduce “destructive competition” by encouraging industry agreements and wage and hour protections for workers. Also, a 55%-majority thought that the wages paid to workers in industry were too low, while half said that big business concerns were raking in too much profit.
And Ready to Regulate …

Statist views were not limited to support for government spending. Major regulatory programs also received strong endorsements: Fully 70% favored limitations and prohibitions on child labor, even if that required amending the Constitution. Even more (88%) endorsed a law that would prevent misleading food, cosmetic and drug advertising. By 52% to 36%, the public also supported an amendment that would allow greater congressional regulation of industry and agriculture — and, at least in war-time, federal control of “all profits from business and industry” was favored by a 64%-to-26% margin.

Perhaps the sharpest departure from today’s prevailing ethos is that, by a lopsided 59%-to-29% margin, Americans then said they would prefer public rather than private ownership of the electric power industry! Even more (69%) gave a thumbs-up to a takeover of the war munitions industry.
… But Only Up to a Point

Still, even then there were limits on the appetite for government takeovers. By a 55%-to-29% margin, the public rejected public ownership of the railroads and split 42%-44% on the question of government ownership of the banks (though a 48%-plurality expected that sooner or later that would happen.)

Indeed, when asked if they had to make the choice would they opt for fascism or communism, the public expressed a substantial preference for fascism (39%) over communism (25%), while 36% offered no opinion. (When the question was phrased in terms of living under a German- versus a Russian-type government, the public showed a similar preference for the German model.

Moreover, despite widespread deprivation far beyond anything experienced in modern-day America, by a margin of 50%-to-42%, Americans in the mid-1930s rejected the idea of government limiting the size of private fortunes.

Nor was the public was ready to give organized labor a wholehearted embrace. Only 10% said they belonged to a union, and, during the 1936-1937 General Motors strike, only a third said their sympathy lay with the strikers, while 41% sided with the employers. What’s more, fully 60% supported the passage of state laws making sit-down strikes illegal, and about the same proportion favored forceful intervention by state and local authorities; half would call out the militia if strike trouble threatened.

In this dim view of unions, the 1930s public finds company among today’s voters. As Andrew Kohut describes in a recent analysis in the New York Times, the majority support that unions had come to enjoy has faded sharply since 2007. In a February 2010 Pew Research survey, only 41% of the public expresses a favorable opinion of organized labor, down from 58% three years earlier.

Support for assistance programs was also waning somewhat by 1937. A 53%-majority expressed support for “the government’s policy of reducing relief expenditures at this time,” while opinion was split on whether farm benefits should be increased (39%), decreased (31%) or left the same (31%). Relatively few (25%) were ready to decrease soldiers’ pensions but only 24% wanted to see them increased.

This weakening of support for government spending was no doubt tied to concern over the buildup of federal debt. Government borrowing had not yet exploded to the still-unmatched levels relative to the size of the economy seen during World War II, but New Deal stimulus spending had pushed the federal debt to 40% of GDP by 1933, a level around which it hovered throughout the remainder of the decade.

At the time of the November 1936 election, a solid 65%-majority said that it was necessary for the new administration to balance the budget – though 62% also thought that was Congress’s responsibility rather than the president’s. To that end, many were even ready to raise some taxes: Nearly half (45%) supported a sales tax in their state to raise revenue. Also, by a 49%-to-32% margin, the public favored taxing income from federal bonds, a levy that would, presumably, fall most heavily on well-to-do coupon-clippers.

When it came to the spending side of the federal balance sheet, however, they like today’s voters, shied away from specificity. Fully 70% signed on to a decrease in “general government running expenses,” that era’s likely equivalent of today’s “fraud, waste and abuse.” Still, as now, that consensus wobbled when the question got down to the specific consequences of spending cuts. About half opted for unspecified cuts in relief programs, and relatively few (31%) thought WPA workers should get a pay raise. But no more than 28% thought relief workers should be dropped from the program before they had found jobs in private industry. And 67% acknowledged finding work outside of the WPA would be hard to do.
… And Not About to Coronate

His popularity notwithstanding, America was not prepared to enthrone its leader in the White House. The public was divided as to whether Congress should give Roosevelt the power to enlarge the cabinet and reorganize government. The same was true of FDR’s plan to “pack” the Supreme Court so as to increase its liberal membership.

Only a third (34%) then favored the third term for Roosevelt that he subsequently won. (In the throes of the deep 1981-82 recession, a nearly identical minority, 36%, wanted Reagan to seek a second term.7 By comparison, despite seemingly intractable unemployment, a 47%-plurality still wants President Obama to run in 2012.)

Nor was the Grapes-of-Wrath era public totally forgiving. In 1938, after previously declining unemployment took a sharp upward turn, Democrats lost 7 seats in the Senate and a still record-setting total of 72 seats in the House. In the 1982 midterm elections, Republicans lost 26 seats in the House, strengthening the Democratic majority, though Republicans retained control of the Senate, not losing a single seat. Of course, two years after these setbacks for their parties, voters returned both Reagan and Roosevelt to the White House.
How Different a World?

More mundane differences than the absence of dust bowls, migrating Okies, and starving sharecroppers separate today’s American landscape from that of the 1930s. There was TVA — but no TV. And, of course, there was no internet. More than half of the 66%-male, 98%-white sample surveyed by Gallup in 1936-37 had average or above average incomes; only 10% were on relief. But 46% had no telephone and 43% lacked a car. And while most (82%) frequented the movies, 38% still preferred the old black-and-white variety to color.

Train was the preferred mode of travel on a long trip, handily beating out planes, cars and the bus. And despite active efforts by the aviation industry to encourage passengers (including the introduction of female stewardesses and the introduction in 1936 of a “buy now, pay later” discounted ticket plan that will seem familiar to modern-day consumers), as well as participant-friendly air shows in localities across the nation, two out of three among those surveyed had never traveled in an airplane. And most didn’t want to: Six-in-ten (61%) said that even if someone paid their full expenses, they still wouldn’t want to go by airplane to Europe and back, whereas 80% would gladly accept the deal if they could go by boat.

But for all their differences in day-to-day experience — not to mention their views of government — Americans in the 1930s shared attitudes with many of today’s voters that extend beyond their low opinion of unions and their non-specific worry about federal debt.

The Bonnie-and-Clyde/John Dillinger era of celebrity gangsters had ended a couple of years earlier and in 1936-7, Americans were generally as tough on crime as they are now: 60% favored the death penalty — though among these only a quarter supported capital punishment for persons younger than age 21.

Three-in-four (74%) thought parole boards should be stricter. And almost everyone (86%) wanted jail sentences for drunken drivers. Still, most (54%) favored giving more attention to prisoners’ occupational training, rather than dealing with them more severely (22%).

As now, Americans in the 1930s worried about immigrants, whether legal or not, taking jobs from native-born Americans: Two in three thought “aliens on relief” should be sent back to their “own countries.”

With domestic problems so pressing, few were interested in the United States taking on foreign obligations. A striking 64% called it a mistake for the U.S. to have entered World War I, despite its victory, and by two to one (53%-26%), they still rejected U.S. membership in the League of Nations. Furthermore, to make it hard for the country to get involved in another massive conflict, not only did they assume the now all-but-nullified constitutional requirement that Congress should declare war, nearly seven-in-ten (68%) thought Congress should first be required to “obtain the approval of the people by means of a national vote.”

In today’s global economy, the U.S. public is far more internationally minded. Still, as in the 1930s, isolationist tendencies have cropped up. In a December 2009 Pew Research poll, nearly half (49%) said that the United States should “mind its own business internationally and let other countries get along the best they can on their own. ” In addition, 44% agreed that “the U.S. should go our own way in international matters,” a record level since Gallup first asked the question in 1964. This year, a pre-election survey found jobs and health care were the runaway top issues among likely voters; Afghanistan or terrorism ranked at the very bottom of a list of six possible issues.

Back then, people were generally supportive of a free press. More than half (52%) agreed that “the press should have the right to say ANYTHING it pleases about public officials” — with the emphasis supplied in the Gallup question.

Three years after the repeal of Prohibition in 1933, few (29%) said they would vote to “make the country dry” again.

But these were far from thorough-going libertarians. Though identity theft and terrorists boarding planes were absent from the citizenry’s list of concerns in the mid-thirties, by a 63%-to-29% margin, the public favored a requirement that everyone in the United States be fingerprinted, a proportion remarkably close to the 57% who favored a national identity card when a Pew Research Center survey last tested this issue at the close of 2006.

More strikingly, nearly three-quarters of the U.S. public (73%) favored sterilization of habitual criminals and the hopelessly insane, a view now considered so retrograde that pollsters no longer even inquire about it.

The “birth control movement,” which might be viewed as either a libertarian freedom-to-choose cause or an authoritarian population-control effort, depending on one’s point of view, drew strong 61%-to-26% support.

Views on civil rights were evolving, but slowly. Six in ten said Congress should make lynching a federal crime. Two-thirds thought it was acceptable to have women serve on juries in their state. Moreover, among those favoring the death penalty, fully 77% were ready to give women equal opportunity for the scaffold or electric chair. But while a 60%-majority was ready to vote for a well-qualified Catholic for president, and the surveyed public split evenly (46%-47%) on the choice of a Jew, only a third (33%) would send a woman to the Oval Office, even if she “were qualified in every other respect.” The possibility of a black president was apparently so remote that Gallup didn’t bother to test public reaction.
And in Conclusion …

Is there a message in this for today’s America? Two possible lessons: First, it’s worth remembering that the social programs and banking controls that the New Deal era produced stood the nation in good stead over many decades of unprecedented prosperity. Second, Depression-era Americans’ faith in the country and its guiding institutions steeled them against the challenges of a double-dip recession and, years later, World War II. They had it worse, but they also expected it to get better, faster.

Learn how early 1980s Americans responded to their deep economic downturn in an accompanying commentary: “Reagan’s Recession”

1. The Gallup poll samples are drawn from 21 individual surveys conducted nationally and reweighted to conform to population demographics The Roper Center’s provides the following description of survey methodology and their additional “cleaning” efforts to make the data consistent and representative across surveys.

General Information:

This data set is made up of 21 individual surveys. They were conducted during the years 1936 and 1937 by the American Institute of Public Opinion. There are a total of 63,052 records in the file. The actual study numbers and their corresponding N’s are presented below:

Survey N’s do NOT represent the “true” number of persons interviewed. As was the custom in the early days of data processing, a “card” weighting procedure was used to make the samples conform to population parameters. Instead of creation of a “weight” variable (which serves as a multiplication factor) individual response records were simply duplicated. The data from the surveys were processed according to standard Roper Center procedures. Cleaning procedures (converting from multi-punch formats to characters formats) were performed so as to preserve the integrity of the original survey instruments. Certain variables have been recoded from their “single” survey forms to insure cross- study consistency. This cumulative data set merges all 21surveys into a single data set with repeated questions across surveys defines as the same variables. The survey identification variable serves as a means for specific survey identification. Missing data codes have been established for questions not asked in the various surveys. The surveys included for each question are documented in “notes” after each question in the following codebook. Sampling Technique: Modified Probability. Prior to 1950, the samples for all Gallup surveys, excluding special surveys, were a combination of what is known as a purposive design for the selection of cities, towns, and rural areas, and the quota method for the selection of individuals within such selected areas. these were distributed by six regions and five or six city size, urban rural groups or strata in proportion to the distribution of the population of voting age by these regional-city size strata. The distribution of cases between the non-south and south, however, was on the basis of the vote in Presidential elections. Within each region the sample of such places was drawn separately for each of the larger states and for groups of smaller states. The places were selected to provide broad geographic distribution within states and at the same time in combination to be politically representative of the state or group of states in terms of three previous elections. Specifically they were selected so that in combination they matched the state vote for three previous elections within small tolerances. Great emphasis was placed on election data as a control in the era from 1935 to 1950. Within the civil divisions in the sample, respondents were selected on the basis of age, sex and socio-economic quotas. Otherwise, interviewers were given considerable latitude within the sample areas, being permitted to draw their cases from households and from persons on the street anywhere in the community.
2. The BLS did not begin producing official estimates of unemployment until 1940, but the estimates produced by Lebergott are well-regarded within the academic community. Lebergott, however, includes WPA and other work relief participants among the unemployed. By counting these workers as employed, economist Michael Darby reduces the 1933 peak to 20.6%.
3. If WPA and other work-relief workers are counted among the employed, the unemployment rate is estimated to have been reduced to 10% in 1936 and 9% in 1937.
4. For a more detailed description of public opinion during the 1981-1982 recession, see “Reagan’s Recession.”
5. Averaged over both pre- and post-election surveys.
6. A blog of Americana recounts one typical joke of the era: A motorist honored the stop sign preceding a curve in the road, in which you couldn’t see the end of the curve. A W.P.A. worker was there to advise the motorists — but he had laryngitis and had to speak in a raspy whisper. He said: “Be careful, there’s W.P.A.workers around the bend.” The motorist spoke back to the man, using the same raspy, whispering, voice – “Don’t worry – I WON’T WAKE ‘EM UP!!”
7. For a more detailed description of public opinion during the 1981-1982 recession, see “Reagan’s Recession.”

Bankers. The red carpet’s still being rolled out for them in Washington, but if there’s a stain on it they’ll pout for days. Jason Linkins documents the latest set of cheap white whines from very wealthy white men. (Discrimination lawsuits are a routine part of their legal troubles, too.) This time they’re upset because nobody from the six largest banks in America was invited to the president’s CEO Roundtable.

They’re offended because they didn’t meet with the president? From the looks of things they’re lucky not to be meeting with the warden. Their collective rap sheet includes fraud, sex discrimination, collusion to bribe public officials… even laundering drug money for Mexican drug cartels. One of them is accused of ripping off some nuns! None of this criminal behavior has stopped them from sulking over a presidential slight. Let’s review the record for these corporate malefactors, and then decide:

Which of these six banks was “America’s Most Shameless Corporate Outlaw” in 2010? (I mean, really: Nuns?)

Associated Press: “Attorneys general in Arizona and Nevada filed civil lawsuits Friday against Bank of America Corp., alleging that the lender is misleading and deceiving homeowners who have tried to modify mortgages in two of the nation’s most foreclosure-damaged states.”

Courthouse News Service: “Bank of America violated a consent judgment it signed almost 2 years ago to provide loan modifications and help relocate borrowers, the Arizona attorney general claims … Bank of America has continued to misrepresent ‘to Arizona consumers whether they were eligible for modifications of their mortgage loans, when Bank of America would make a decision on their modification requests … and whether and when Bank of America would foreclose upon their homes.'”

Consumer Affairs: “The bank is also facing at least three suits claiming that it reneged on duties it undertook by accepting $25 billion under the Troubled Asset Relief Program (TARP).”

In total, Bank of America’s last annual report lists 29 pending lawsuits against the company. Lawsuits are not proof of guilt, of course. But the bank has already paid a fine for illegally concealing $6 billion in payouts to employees, and another fine for concealing major losses at its Merrill Lynch subsidiary. (Both fines were low – not much more than a slap on the wrist – because Bank of America was on taxpayer-funded life support at the time.) BofA also confessed to committing fraud as part of a settlement this month, which the Justice Department noted was restitution “for its participation in a conspiracy to rig bids in the municipal bond derivatives market.” The Bank was also ordered to pay Lehman $590 million for illegally seizing its deposits, in violation of bankruptcy law.

From the Associated Press:

A document obtained last week by the Associated Press showed a Bank of America official acknowledging in a legal proceeding that she signed thousands of foreclosure documents a month and typically didn’t read them. The official, Renee Hertzler, said in a February deposition that she signed 7,000 to 8,000 foreclosure documents a month.

How generous has the taxpayer been to Bank of America? There was the TARP money, of course. And BofA, like other banks, has been suckling at the teat of Federal Reserve’s discount money window throughout the crisis. And, as Zach Carter noted, the bank was also one of two institutions that were the main beneficiaries of a special Fed program called the Primary Reserve Credit Facility. There were those cushy settlements with the SEC.

BofA stock was trading at $53 at the end of 2006. As of this writing the stock is trading for $13.30. But its executives have been wasting corporate money and resources buying up 419 web URLs with insulting phrases and the names of their senior executives — most of whom nobody’s ever heard of – to protect their personal reputations. No company’s ever done that before. Bob Scully “blows” (bobscullyblows.com) and Bill Boardman “sucks” (billboardmansucks.com)? Who knew?

Last year two senior executives received $9.9 million and two others received $6 million in total compensation. The guy who robbed a Bank of America branch in West Palm Beach is going to prison. The bank’s senior executives are hurt that they didn’t get invited to the Rose Garden for tea.

Rap Sheet: BofA has probably committed more foreclosure offenses than any other single institution. It deceived stockholders, and the public, about the $6 million in bonuses it paid out (during the rescue process), and was equally deceptive about Merrill Lynch’s financial status. It has also been punished for rigging municipal bond derivative bids.

“At JPMorgan Chase & Company, they were derided as ‘Burger King kids’ — walk-in hires who were so inexperienced they barely knew what a mortgage was… revelations that mortgage servicers failed to accurately document the seizure and sale of tens of thousands of homes have caused a public uproar …”

Failure to accurately document home foreclosures is illegal. It’s lousy management, too. Dimon oversaw a sloppy operation that’s going to cost his shareholders a lot of money: “JPMorgan set aside $2.3 billion of reserves to cover mortgage repurchases or litigation expenses, including some for ‘mortgage-related matters,’ the lender said.”

A whistleblower complaint alleges that the bank “sold to third party debt buyers hundreds of millions of dollars worth of credit card accounts… when in fact Chase Bank executives knew that many of those accounts had incorrect and overstated balances.” According to the complaint, “Chase Bank executives routinely destroyed information and communications from consumers rather than incorporate that information into the consumer’s credit card file … and mass-executed thousands of affidavits in support of Chase Banks collection efforts … (but) did not have personal knowledge of the facts set forth in the affidavits.” It also claims that “when senior Chase Bank executives were made aware of these systemic problems, senior Chase Bank executives — rather than remedy the problems — immediately fired the whistleblower and attempted to cover up these problems.”

There are also multiple lawsuits against Chase for allegedly manipulating the price of silver, and there is at least one report that the bank is being probed by several Federal agencies (including the Justice Department) over its trading activities in precious metals.

JPMorgan Chase “agreed to pay $25 million to settle allegations it sold unregistered securities, many of which defaulted, to the state of Florida,” as the Orlando Sentinel reported. That’s a crime. Chase was also one of several banks that paid to settle charges that it illegally propped up a failed mortgage lender. (These settlements have typically allowed the banks to “admit no wrongdoing” — a practice which should be stopped. Crimes are crimes.)

JPMorgan Chase’s behavior in Jefferson County, Alabama was pure Huey Long material. The Kingfish would’ve admired the way the bank spread more than $8 million around the county through local intermediaries so it could secure highly lucrative deals on municipal derivatives. As Bloomberg News put it, ” JPMorgan, the second-largest U.S. bank by assets, used fees on the unregulated derivative contracts — and a trip to a New York spa for one elected official — to curry political favor, a decade after the SEC adopted rules to drive out pay-to-play from the $2.8 trillion municipal bond market.”

The bank conducted this criminal behavior under Dimon’s watch. And while it “neither admitted nor denied wrongdoing,” as usual, it had to pay a three-quarters-of-a-billion dollar settlement to wrangle its way out of this snakepit of illegality.

Shameless quotes: “Judy Dimon says the crisis took a toll on him. He used to stand up to bullies who threatened his smaller twin; now he felt as if he, and bankers in general, were being bullied.” (from a New York Times profile of Dimon)

3. Citigroup

Citi’s being sued for gender discrimination by its own employees. Citi settled a class action lawsuit after illegally raising rates for credit card customers. The bank’s being sued by an independent trustee for allegedly “aiding and abetting” a Ponzi schemer.

Citi executives were given slap-on-the-wrist fines for lying to investors about $40 billion in subprime exposures, which is a criminal act. It should also be remembered that Citigroup paid $2.65 billion in 2004 to settle class action lawsuits over its alleged illegal actions in propping up WorldCom stocks in return for enormous fees.

As Citi’s annual report notes, “Citigroup and Related Parties have been named as defendants in numerous legal actions and other proceedings asserting claims for damages and related relief for losses arising from the global financial credit and subprime-mortgage crisis that began in 2007.”

Citi is still being investigated by Italian courts for possible criminal behavior in the Parmalat case, and it’s being sued by a Norwegian bank for misrepresenting its financial condition and failing to disclose material information. It’s being sued by investors for misrepresenting its underwriting of mortgage backed securities.

Shameless quotes: “Almost all of us… missed the powerful combination of forces at work and the serious possibility of a massive crisis.” (Robert Rubin) “On November 3, 2007, I sent an email to Mr. Robert Rubin and three other members of Corporate Management. In this email I outlined the business practices that I had witnessed… I specifically warned about the extreme risks that existed within the Consumer Lending Group.” (Former Citi exec Richard Bowen)

4. Wells Fargo

They illegally laundered drug money for the Mexican cartels — and nobody went to jail.

Here’s a suggestion: Read stories like “War Torn Mexico: A Population in Terror,” which begins: “Massacres, beheadings, YouTube videos featuring cartel torture sessions and even car bombs are becoming commonplace in Juarez.” Study the statistics on the violent murders – which include Federal agents, children, and “penniless immigrants” — and then remind yourself: These are Wells Fargo’s business partners.

Shameless quotes:”We’re more of a Main Street bank than a Wall Street bank.” “Of all the decisions I’ve had to make, few have been as difficult as cutting the dividend.” (Wells Fargo CEO John Stumpf)

5. Goldman Sachs

The SEC charged Goldman with fraud, and they settled the suit by admitting their marketing materials contained lies — which they called “mistakes.” They were fined by Great Britain for illegally concealing US fraud investigations. Goldman has its own gender discrimination lawsuit, too, and theirs comes complete with strippers and racist emails.

Goldman’s being sued for deceiving its clients over an offering its own employee privately (and thanks to Sen. Levin, famously) bragged was “a shitty deal.” Goldman separately paid $60 million in Massachusetts to settle charges of predatory loan practices.

After mismanagement drove Goldman into impending doom, the firm was saved by TARP funds and Federal Reserve’s Emergency Liquidity Programs. Total taxpayer aid to Goldman exceeded three-quarters of a trillion dollars. Goldman also received $13 billion in backdoor payouts through the AIG liquidation (under Tim Geithner’s supervision).

Earlier this year the Wall Street Journal reported that “U.S. prosecutors are investigating whether Morgan Stanley misled investors about mortgage-derivatives deals it helped design and sometimes bet against.” The firm’s also being sued by US Bank for fraudulently misleading it and other investors over a structured residential investment called “Tourmaline.” A group of investors in Singapore is suing the firm for designing CDOs to fail and then selling them as “conservative investments.”

The Financial Industry Regulatory Authority fined Morgan Stanley this year for failing to disclose material conflicts of interest to investors. The same agency hit the firm with a $12.5 million fine in 2007 for illegally concealing emails during customer arbitration hearings. In a particularly sleazy move, Morgan Stanley claimed that the emails had been lost on 9/11, when they were all safely stored in backup copies elsewhere.

MS was also sued by the EEOC for gender discrimination.

The firm was able to beat back an investors’ lawsuit over bloated executive pay — it set aside 62% of net revenue for employee compensation — so its executives get to keep fat bonuses for driving the company into the ground. Greed and stupidity aren’t illegal, after all.

On the other hand, their portfolio of lawsuits including one that says they defrauded nuns in Europe.

Rap Sheet: Despite numerous violations and charges, Morgan Stanley is a relatively minor player compared to its bigger colleagues. On the other hand, it illegally concealed evidence from arbitrators by using the World Trade Center attack as an excuse, and six of its own employees died in that attack. That’s simply vile. On top of that, they’re being sued by nuns.

Shameless Quotes: “When we think back on 2001, we are filled with deep sorrow and outrage over the events of September 11. Who among us will ever forget the shock and horror of that day?” (Morgan Stanley Annual Report, 2001) “When you come that close to really going out of business, call it near death, death experience, the end of the line, whatever you want to call it, your only focus is to make sure your company survives.” (former CEO John Mack)

The American people rescued these six banks. (Dimon says his bank didn’t need rescuing, but how would it have fared in a collapsed economy? And the government’s willingness to go easy in its illegalities was pretty helpful, too.) They’ve all violated the law, and they’re all suspected of even more possible illegalities. And yet they’re all pouting because they weren’t invited to the White House along with the other CEOs.

Which is our most shameless corporate lawbreaker? In any normal period of history they’d all be considered corrupt institutions, and their leaders would be ashamed to show their faces among respectable people. But these aren’t normal times, are they?

Frankly I’m stumped. They all deserve the title as far as I’m concerned. Why don’t we put it to a vote?

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Richard (RJ) Eskow, a consultant and writer (and former insurance/finance executive), is a Senior Fellow with the Campaign for America’s Future. This post was produced as part of the Curbing Wall Street project. Richard also blogs at A Night Light.

Once again, a panoply of FT pundits have put their reputations on the line to divine what the new year will offer. They have a lot to live up to, after the success of last year’s commentators. Martin Wolf rightly predicted the eurozone would not let a member state default, Chris Giles backed the UK to avoid a double-dip recession – though the question remains apt – and Alan Beattie foresaw guerrilla warfare in trade
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But voters proved less predictable. Clive Crook thought the Democrats would hold the US House of Representatives; Philip Stephens foretold an overall Conservative majority in the UK. Simon Kuper scored an own goal betting on Brazil for the World Cup. But we may have to wait until the stroke of midnight for the final reckoning on Clive Cookson’s prediction for 2010 – that this could turn out to be the hottest year in recorded history. Rosie Blau

Will the euro survive?

Yes. Despite the rolling wave of crises in peripheral European countries, the will of members to keep the eurozone functioning has proved strong enough to prevent an outright default, let alone a departure from the currency union. It is probable that defaults will also be prevented in 2011. But, in the longer run, defaults – or, more precisely, debt restructurings – look inevitable, not least because that is what Germany wants to happen.

The big question is whether countries that have experienced a public sector default will be prepared to soldier on within the currency union. The costs of departure will certainly be lower in these dire circumstances. If, as seems plausible, the alternative is years of deflation and depression, some countries might choose to leave. But 2011 will not be the moment for that truth.

Meanwhile, the euro will surely survive, even in the long run, if in a diminished form, as a union among the economies that are able to live with Germany. Martin Wolf

Will Europe allow a bank to fail?

Yes. In most European countries, bank balance sheets are riskier than public finances. In 2011 it will become increasingly clear that the greatest threat to sovereign solvency is the continued insistence that taxpayers will make bank creditors whole. So, the choice – and not just in the eurozone – is between propping up banks and keeping public finances afloat. Next year, Europeans will choose to save their states rather than their banks: 2011 will be the year not of sovereign defaults, but of haircuts for banks’ senior bondholders. Martin Sandbu

Will China’s bubble burst?

There is no China bubble, so it cannot pop. Some parts of the economy – property prices in first-tier cities, for example – are a bit frothy, but the idea of a generalised bubble is folly. Surges in lending in 2009 and 2010 have helped to generate inflation in asset and food prices. Though serious, these will be controlled in 2011. Much lending has been put to productive uses – not excess. Rural China, with a population of 721m, is rising from relative economic obscurity into a genuine growth driver. A new cohort of 250m to 300m rural discretionary consumers has emerged. The result is not the writing on the wall for China’s boom, but the opening lines of a new chapter in the narrative. James Kynge

Will Korea reunify?

No chance. Reunification is the most desirable outcome for the Korean peninsula, but the least likely – for now. Certainly the situation is volatile. Kim Jong-il has begun a potentially destabilising handover, and Pyongyang has become more aggressive. With things in flux, reunification should be more likely. But Seoul shows little appetite for this gargantuan undertaking. More important, China, which refuses to condemn Pyongyang, continues to back it economically. Beijing appears unwilling to accept the risks of a collapsed North Korea, nor the prospect of a united Korea hosting US troops. Reunification may happen one day. But not in 2011. David Pilling

Will WikiLeaks retain its potency?

Yes, but it will no longer monopolise the market. Julian Assange’s fame has grown since his early revelations about Afghanistan and Iraq, but his reputation has been tainted by allegations of rape and WikiLeaks’ scattergun approach in releasing the US diplomatic cables. Attempts to disrupt the operation have largely failed, while a stream of leaks continues to embarrass and intrigue. More will follow next year. WikiLeaks will soon face a greater challenge, however: competition from a growing number of copycat leak sites. Just as Napster pioneered music downloading but was soon surpassed, in the next year one of WikiLeaks’ imitators will overtake it. James Crabtree

Will the US and its Nato allies start winning the war in Afghanistan?

Yes, events should begin to go Nato’s way. The US and its allies are pressing the Taliban in its heartlands. The Afghan army is growing in numbers and quality. Nato has the combat troops and numbers necessary for success.

Of course, problems lie ahead. The US will be more vigorous in demanding that Pakistan attack insurgents operating on its Afghan border. Allegations of corruption and abysmal governance will continue to plague President Hamid Karzai. Though there will be setbacks, allied troop casualties should be less alarming than in past years. Twelve months from now, Afghanistan will haunt western leaders a little less. James Blitz

Will the Mubarak era end in Egypt?

Not if the Mubarak family has its way. Ailing Hosni Mubarak, Egypt’s ruler since 1981, has no intention of relinquishing his job, unless his health demands it. But if he cannot run for re-election in 2011 his ambitious son Gamal may not be able to take over. The favourite of a young, economic reformist wing in the ruling National Democratic Party, Gamal faces resistance from a powerful old guard and the army may not accept him. If the elderly Mubarak is truly planning to install his son, he must engineer the succession in his lifetime. If he is gone, a figure with closer ties to the security establishment is likely to become president. The Mubarak era would then truly end. Roula Khalaf

Will there be civil war in Sudan?

At any time conflict rages somewhere in Sudan. January’s long-awaited referendum on the independence of southern Sudan will inflame tensions, but will not lead to full blown civil war. Neither Khartoum nor the former southern rebels wants to reignite Africa’s longest civil war – they depend on each other to produce the oil that bankrolls both regimes. But if, as is likely, the south votes to secede, leaders will not be able to manage expectations or control armed affiliates. The emergence of the world’s newest state will be neither peaceful nor orderly. William Wallis

Will social unrest worsen in Europe?

In all probability, yes. Across the European Union, governments are cutting spending and unemployment is rising. This month, violent protests erupted across Europe. The immediate cause varied, but economic austerity was the common backdrop. That climate of austerity is likely to worsen and spread in 2011, as Greece and Ireland press on with International Monetary Fund-backed cutback programmes – and Portugal, Spain and perhaps Italy and Belgium struggle to ward off sovereign debt crises. Cuts will also be the order of the day in Britain. Meanwhile, the unpopularity of President Nicolas Sarkozy in France and his allegedly “bling” style – plus the approach of a presidential election in 2012 – makes unrest probable. Europeans have demonstrated in the past (1848 and 1968 spring to mind), that an atmosphere of social disorder, protest and unrest can easily spread across the continent’s national boundaries. Gideon Rachman

Should investors switch out of bonds into equities?

Yes. Picking assets, at least at the start of the year, will be about choosing the least worst option. Equities have risen a lot since their 2009 trough. Bonds have also enjoyed an impressive ride, although theirs arguably started earlier, in the 1980s. US Treasury yields have fallen from 16 per cent to 3 per cent over that period. But assuming – and it could be a big assumption – that western economies continue to recover, equities should do better than bonds, where yields could rise sharply. Investors looking for yield may plump for dividend-rich stocks. A worsened eurozone debt crisis could knock the stuffing out of equities. In 2011, markets could also wake up to the fact that authorities are potentially just storing up problems for 2012 and beyond. Richard Milne

Will bonuses shrink?

Yes – but not for the reasons politicians and taxpayers hope. The incentive pool from which investment bankers’ bonuses are paid will be down by about 20 per cent. That has little to do with self-restraint and a lot to do with a difficult 2010. The absolute amounts that top performers and senior executives receive will still be high enough to fuel a new round of popular anger. Politicians seem torn: having agreed austerity measures for the general population, they cannot endorse lavish pay in high finance. But while new rules are changing the structure of compensation – upfront cash bonuses and “guaranteed” incentives are out, “clawback” for poor performance is in – banks know regulators do not want to hobble London or New York as financial centres. That, and the threat of being accused of collusion, make unlikely any voluntary agreement to limit pay. Andrew Hill

Will the currency wars go nuclear?

No, barring renewed global recession – but heavier ordnance may be wheeled into action. After several years when exchange-rate tension was largely a bilateral US-China affair, emerging markets across Asia and Latin America have joined the fray, complaining about their currencies being driven higher. But, rather than China taking all the blame for holding down the renminbi, the US drew at least as much flak for “quantitative easing” pushing down on the dollar.

A unified global campaign against China’s currency policy will continue to elude Washington. Instead, the US could finally carry through its long-standing threat to block Chinese imports on the grounds of currency misalignment. While Congress is angry, it is not ready to start a global trade war unless the economy worsens markedly. Any legislation that makes it to presidential signature will have been watered down. Meanwhile, experiments by countries such as Brazil, with restraining inflows of “hot money” are likely to be repeated. But, given their risks and limited effects, a wide-scale return to capital controls is highly unlikely. Alan Beattie

Where will oil finish the year?

Looking at the oil markets today, the bulls are making the most noise. Oil demand is set to increase in 2011 – the International Energy Agency has lifted its estimate of global oil demand growth for 2010 to 2.3m barrels a day, the second-highest level in recent history. Stronger economic growth will help underpin that demand. Opec, however, will be under pressure to make sure prices do not go too high and may increase production. 2011 will be remembered as the year when oil prices tipped $100 a barrel – they are likely to finish the year around that level, plus or minus. Sylvia Pfeifer

Will there be a global food crisis?

Yes. The global bill for food imports will surpass the $1,026bn record of 2008 and prices of several agricultural commodities will also top their previous record. The Food and Agriculture Organisation’s benchmark food index will also set a new high. Among key crops, wheat, corn, barley and oilseeds such as soyabean will see large increases; only rice will have limited gains.

Behind the spike is a string of supply problems related to bad weather. Demand is also strong, partly boosted by biofuel consumption. But there may be fewer food riots than in 2007-08: African crops have been abundant, shielding poor countries from the brunt of surging prices. Javier Blas

Will I be seen naked in airports?

With luck, no. Contentious body scanners mushroomed after the “underpants bomber” tried to blow up a Detroit-bound jet last December. But US manufacturers say computers can now pinpoint suspicious objects – humans need no longer check scanner images. Some experts have their doubts, but manufacturers say the kit could be installed in 2011 – if the authorities clear it. Yet even this technology would not halt intrusive pat-downs for those wanting to avoid scanners. Pilita Clark

Will Britain’s coalition collapse?

No. But things are about to get very rough for the Conservative-Liberal Democrat government. Though the coalition is likely to hold together, the same cannot be said with certainty about Nick Clegg’s Lib Dems. History has shown that the smaller party almost always fares badly when it joins Tory-led governments. The coming year may see history repeating itself. As spending cuts bite, Mr Clegg’s party may well bear the brunt of public anger. It has already lost support over student tuition fees while David Cameron, prime minister, has proved remarkably adept at keeping the Conservatives above the fray.Mr Clegg and his Lib Dem ministers have nowhere else to go. That is not to say the party is not in danger of fracturing – especially if a referendum on electoral reform sees the country rejecting Mr Clegg’s call for change. Philip Stephens

Will the UK voting system change?

Probably not, though the coalition has promised a referendum. There is a palpable lack of public enthusiasm for this issue – it does not quicken the pulse of the electorate. Moving from first-past-the-post to the alternative vote system (which ranks voters’ preferences) feels like a watery change. Unlike proportional representation – which is easy to grasp – the electoral impact is neither immediately apparent to voters nor readily explicable. AV also lacks powerful political advocates. Both big parties are blurry on the issue, while its biggest champions (and beneficiaries) – the Lib Dems – are sinking in the polls.

AV does not even get its own standalone referendum day – which might allow enthusiasts to carry the day on a minuscule turnout. Instead it will probably piggyback on May’s local and regional elections. Given this, it seems likely that indifference will win the day. Jonathan Ford

Will we find the Higgs particle?

The Higgs boson, predicted but still unseen, is the most wanted subatomic particle. Scientists believe it underlies the most important property of matter – mass – and its discovery would help tie up several ideas about the laws of physics.

So the Higgs is target number one for the world’s most powerful atom smasher, the Large Hadron Collider at Cern near Geneva, which has been running at full tilt for a year.

But the world’s second most powerful accelerator, the Tevatron at Fermilab near Chicago, has a head start in collecting data for the Higgs hunt; it could just pip Cern to the prize. Between them, they should record enough collisions during 2011 either to detect the Higgs or to rule out its existence, which would blow the whole theoretical framework of physics wide open. I’ll go for detection. Clive Cookson

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The ongoing recession and sustained high unemployment have pushed aside the near-collapse of the financial sector as a front-burner worry for Americans. And yet, developments in the financial world are still creating uncertainty and trouble for the world economy. Looking back, here are the five most important — in some cases troubling — financial stories of 2010.

The foreclosure debacle dominated the financial news last fall with reports of “robo-signings” by employees who approved foreclosures without even reviewing the documents, break-ins into foreclosed homes by the evicted owners and, incredibly, by the banks themselves, and electronic mortgage recording systems that didn’t keep track of who owned the mortgage. With more than half of homeowners in states like Nevada “under water” — meaning that they owe more on their mortgages than their homes are worth — the foreclosure crisis easily became the No. 1 financial story of the year. The robo-signing fiasco became so widespread that attorneys general in all 50 states started investigating claims that many foreclosures probably shouldn’t have happened at all.

Home foreclosuresBut even though plenty of homeowners probably shouldn’t have been kicked out of their homes, there is no question that the foreclosure crisis is real. According to Realty Trac, lenders will foreclose on 1.2 million homes this year, and 2011 will be a “record year” in the same regard.

One would have thought that after nearly suffering a second Great Depression, it would have been easy for Congress to pass significant financial reform. But you would have been wrong — and wrong also for thinking it would be easy to make bankers pay for the economic turmoil they wrought.

Still, after more than a year of haggling, Congress did manage to pass major financial reform. The Dodd-Frank bill does a lot of good things. It establishes an independent Consumer Financial Protection Bureau (being shaped by Harvard law professor Elizabeth Warren, who originated the idea), and contains measures designed to protect taxpayers against abusive mortgage and credit card lending practices. It attempts to prevent firms from becoming “too big to fail” by giving the government the power to close down large but shaky financial institutions whose collapse might take down the entire system (complete financial meltdown was the major fear in September 2008). It also establishes an “advanced warning system” in the form of a Financial Services Oversight Council to monitor future threats to the financial system, and it imposes restrictions on derivatives trading, which was a major factor in the 2008 crisis.

Despite these positive steps, however, the new law has some major omissions. It does not address the problem of Fannie Mae and Freddie Mac, the giant government-sponsored entities that the feds took over in 2008, nor does it deal with the long-standing preferences for debt financing, via the mortgage-interest deduction in the tax code, which encouraged consumers take on — and lenders to provide — more debt than they should have.

3) Crisis in Euroland: Iceland, Greece and Financial Bailouts in the EU

Just when it looked as if the financial crisis might be subsiding, new ones erupted across the European Union (along with an Icelandic volcano) that threatened to topple the EU’s common currency, the euro. Ireland was the first country to buckle, followed shortly thereafter by Greece, where riots over fiscal austerity measures threatened the stability of the birthplace of democracy. Fiscal crises elsewhere led analysts to give these countries the unfortunate (but apt) acronym PIIGS — for Portugal, Ireland, Italy, Greece and Spain — as shorthand for the profligate spending programs and failure to meet EU budget rules they had exhibited over the years. Perhaps because German banks stood to lose massively if these nations defaulted on their obligations, Germany came to the rescue.

European leaders recently agreed to create a permanent bailout framework to solve the sovereign debt crises in Europe. But, since these plans won’t become effective until 2013 and they do nothing to solve the current problem (which requires Germany to, in effect, bail out one EU country after another), it’s quite possible that other letters will need to be added to the PIIGS moniker.

When Lehman Brothers went bankrupt and AIG, Citigroup, Merrill Lynch, and Goldman Sachs nearly collapsed in September 2008, Congress authorized a $700 billion bailout of the financial industry to prevent a global meltdown that many feared would make the Great Depression seem like a mild slowdown by comparison. Now, to nearly everyone’s surprise, the firms that benefited from the Troubled Asset Relief Program have largely paid back these loans, with interest. The program has been so successful that the Congressional Budget Office reports that the TARP will cost U.S. taxpayers no more than a fraction — about $25 billion — of the money they lent two years ago.

What these figures fail to report, however, is the phenomenal indirect cost of the bailout. For this information, we must thank Independent Sen. Bernie Sanders of Vermont, who insisted that the Federal Reserve provide details on all of the loans it made during the crisis. The resulting report shows that the U.S. government extended, via the Federal Reserve, some $3.3 trillion — nearly five times the TARP fund — to keep the global economy afloat.

This support extended well beyond American financial firms such as Bank of America, Goldman Sachs, and Wells Fargo. The Fed supported General Electric and McDonald’s as well as foreign financial firms such as Switzerland’s UBS, France’s Societe Generale, and Germany’s Dresdner Bank. While these loans took place under approved procedures, such as the Term Auction Facility, and, as the Fed explained, were provided to “avoid the disorderly failure of these institutions and the potential catastrophic consequences for the U.S. financial system and economy,” there is no doubt that the Federal Reserve went to extraordinary (and until now unreported) lengths to rescue the world economy.

5) Goldman Sachs and Its SEC Settlement; the Accounting Scandal at Lehman Brothers and Elsewhere

The most noteworthy accounting scandal relating to toxic subprime securities and other financial shenanigans concerned a deal known as “Abacus” that was engineered by Goldman Sachs, apparently for the purpose of making a hedge fund manager a heckuva lot of money. As the Securities and Exchange Commission reported, Goldman Sachs allowed hedge fund manager John Paulson to choose the securities that went into the Abacus deal but didn’t let on that Paulson had effectively placed a $1 billion bet that the security would collapse, which it did shortly after it was sold to unwitting investors. In April, the SEC sued Goldman for fraud over its failure to disclose the hedge fund manager’s role. In July, Goldman Sachs settled with the SEC and paid a $550 million fine, but admitted no wrongdoing in the matter.

Goldman Sachs was not the only investment bank in the news in 2010. In March, a bankruptcy court examiner issued a 2,200-page report detailing accounting tricks known as “Repo 105,” which had been taking place at the now-bankrupt investment bank Lehman Brothers since at least 2001. That report, however, would have died on the vine but for the actions of outgoing New York attorney general (and incoming governor) Andrew Cuomo, who sued the accounting firm Ernst & Young, accusing it of helping its client Lehman Brothers engage in massive accounting fraud “involving the surreptitious removal of tens of billions of dollars of securities from Lehman’s balance sheet, thereby defrauding the investing public.”

Finally, the investigative team at ProPublica just exposed a scheme at Merrill Lynch where one group within the firm essentially paid another group within it to purchase the toxic mortgage-backed securities it couldn’t sell on the street. Merrill Lynch, which is now owned by Bank of America, denies that it did anything improper, but ProPublica stands by its analysis.

What to Watch for in 2011

Although the financial crisis erupted more than two years ago, the fallout will continue for many years to come. As 2010 draws to a close, analysts are warning of looming municipal bankruptcies as communities across the country find it impossible to meet their pension obligations. They are also raising concerns about Fannie Mae and Freddie Mac, which the federal government put into conservatorship in September 2008 (and still provides an enormous amount of assistance to keep them afloat). All this occurs as the nation carries a $13.8 trillion debt burden and the budget deficit grew by $858 billion when President Obama and Congress agreed to extend the Bush tax cuts for two years and unemployment benefits for another 13 months, all part of a 2010 holiday gift to the American people.

“The market is telling you that something is not quite right … The Chinese economy is going to slow down regardless. It is more likely that we will even have a crash sometime in the next nine to 12 months.”
-Investment analyst Marc Faber, Interview on Bloomberg, May 3, 2010

Well, to be fair, the Chinese economy has slowed since the famously bearish investor and analyst made his prediction … to a still-astounding 9.5 percent growth, one of the highest rates in the world and well above Beijing’s fixed 8 percent target. If the crash is coming, it’s taking its time.

Other outspoken China bears this year included investor James Chanos, who predicted that the country’s property bubble would begin to burst in late 2010, unleashing “Dubai times 1,000 — or worse.” Property values are still rising, though they seem to be starting to cool.

Analysts have been predicting the end of the Chinese miracle for the last 30 years, but it never seems to happen. Maybe 2011 will finally be the year, but don’t bet on it

“The market is telling you that something is not quite right … The Chinese economy is going to slow down regardless. It is more likely that we will even have a crash sometime in the next nine to 12 months.”
-Investment analyst Marc Faber, Interview on Bloomberg, May 3, 2010

Well, to be fair, the Chinese economy has slowed since the famously bearish investor and analyst made his prediction … to a still-astounding 9.5 percent growth, one of the highest rates in the world and well above Beijing’s fixed 8 percent target. If the crash is coming, it’s taking its time.

Other outspoken China bears this year included investor James Chanos, who predicted that the country’s property bubble would begin to burst in late 2010, unleashing “Dubai times 1,000 — or worse.” Property values are still rising, though they seem to be starting to cool.

Analysts have been predicting the end of the Chinese miracle for the last 30 years, but it never seems to happen. Maybe 2011 will finally be the year, but don’t bet on it.

“Sharron Angle beating Harry Reid, followed by an uncomfortable and possibly bitter concession speech from Harry Reid. … Charlie Crist, an independent beating Marco Rubio, throwing a wrench in the Tea Party and extreme right winners of the night. … I am one of the few of the mind-set that Christine O’Donnell could actually pull this thing off. … In the tight and hugely expensive California race, I predict a win for the former CEO of eBay.”
-Meghan McCain, The Daily Beast, Nov. 2, 2010

Generally speaking, most pundits called the 2010 U.S. midterm elections pretty accurately. It was widely predicted that Republicans would take the House in a landslide but come up just short in the Senate, which is exactly what happened.

But Sen. John McCain’s daughter and Dirty Sexy Politics author Meghan McCain’s election day predictions were in a category of their own. Of the five races she called, she got only one right — Lisa Murkowski edged out Joe Miller in Alaska. Nevada may have been a tough call, but there’s a reason that few were “of the mind-set” that O’Donnell had a prayer in the Delaware senate race; she was trailing by 10 points heading into election day.

McCain also gets extra points for referring to her father’s close friend Sen. Joe Lieberman as a “former Republican.” The Senator, who ran for both vice president and president as a Democrat, is now an independent who still caucuses with his old party.

“The detention facilities at Guantánamo for individuals covered by this order shall be closed as soon as practicable, and no later than 1 year from the date of this order. If any individuals covered by this order remain in detention at Guantánamo at the time of closure of those detention facilities, they shall be returned to their home country, released, transferred to a third country, or transferred to another United States detention facility in a manner consistent with law and the national security and foreign policy interests of the United States.”
-President Barack Obama, Executive Order, Jan. 22, 2009

OK, so this isn’t exactly a prediction, but Obama made closing Guantánamo a central promise of his presidential campaign and seemed awfully confident during his first weeks in office that getting it done was a matter of giving the order. When his self-imposed deadline passed on Jan. 22, there were still 196 detainees housed in at the prison. Currently, there are 174, and only three of them have been found guilty at trial.

Admittedly, Obama has faced tough obstacles, ranging from the legal mess left by his predecessor to foreign governments reluctant to take in detainees to Republican lawmakers who object to civilian trials for terror suspects, most notably 9/11 mastermind Khalid Sheikh Mohammed. Additionally, the administration now plans to hold around 50 detainees indefinitely without trial in the United States, whether or not Gitmo is eventually closed.

This month, the Senate began consideration of a bill that would block the closure of the controversial facility as will as civilian trials for its detainees. The measure is likely to gain more support in the new, Republican-dominated Congress, so Obama’s promise will likely remain unfulfilled for the remainder of his term

“We’ve got a government in a box, ready to roll in.”
-Gen. Stanley McChrystal, to Dexter Filkins of the New York Times, Feb. 12, 2010

The offensive into the southern Afghan city of Marjah, a reputed Taliban stronghold, was supposed to be a turning point for the coalition in Afghanistan. NATO forces would take the town while trying to minimize civilian casualties and quickly move in a team of Afghan administrators, including a governor and 1,900 police, to provide security as soon as the shooting stopped. The long-planned and much-ballyhooed operation was to be a model for tougher and bigger targets such as Kandahar. On March 2, shortly U.S. troops took the town, McChrystal told the Washinton Post, “We’re not at the end of the military phase, but we’re clearly approaching that.”

Ninety days later, McChrystal described Marjah as a “bleeding ulcer” in the Afghan campaign, as coalition forces struggled with incompetent local officials and a surprisingly robust local insurgency. As one local resident put it in May, “By day there is government. By night it’s the Taliban.”

In December, almost a year after the initial assault, the commanding U.S. general in the area, Richard Mills, finally declared the battle of Marjah “essentially over,” though he admitted that the Taliban was still active on the outskirts of the town and refused to hazard a guess as to when NATO troops would be able to pull out, leaving the “government in a box” to finally govern itself. By that point, McChrystal was out of a job

“Well it won’t be a bailout. We don’t have the specifics, because this is very new, as to what the financial tool will be, but it could be anything from a guarantee to finding other ways of borrowing money. But again it’s not going to be handouts.”
-Greek Prime Minister George Papandreou, BBC interview, Feb. 21, 2010

“Ireland is making no application for the funding… because clearly we are pre-funded right up to the middle of next year.”
-Irish Prime Minister Brian Cowen, BBC interview, Nov. 15, 2010

When European prime ministers start repeatedly denying that they will need an EU bailout, it’s never a good sign. Just two months after Papandreou clearly stated that he wouldn’t go asking for a bailout for his nation’s embattled economy, he formally requested exactly that from the EU and IMF, calling it a “a national and pressing necessity.” The request was approved in May to the tune of $146.2 billion, and not a moment too soon. Analysts feared that Greece’s economic woes could imperil other Eurozone economies, leading to contagion. Ireland was next to fall. After months of resisting, Ireland applied for a $100 billion bailout just a week after Cowen declared the country “pre-funded” until next year.

So when Prime Minister Jose Luis Rodriguez Zapatero confidently declared in November that there is “absolutely” no chance of Spain needing a bailout, there’s good reason to be skeptical

“The Bolivarian leader’s vaunted popularity tumbles. The mood among the humblest Venezuelans, who put Comandante Hugo in power in the first place, and the disgruntled middle class, accustomed to Western-style consumerism, turns mean. The military steps in to depose Chávez and restore order, as 21st-century socialism spins toward the familiar 20th-century tableau of scarcity, poverty, and chaos.”

-Newsweek, World Predictions for 2010, December 2009

Some of Newsweek’s predictions were spot on. The venerable weekly correctly called a Conservative-Liberal Democrat coalition government in Britain and a new round of financial woes for Europe. But the magazine’s editors did themselves no favors with the odd specificity of their prediction for Venezuela. Chávez himself scoffed at the prediction last year, saying that Newsweek “feeds on hatred and the wishes of the imperialism that they represent.”

A year later, Chávez’s popularity is down, but el presidente is not out. In fact, the Venezuelan parliament appears poised to once again grant him sweeping new emergency powers. As for Newsweek, it was sold for a reported price of $1 in August. Sounds like Hugo may have had the last laugh.

“[W]e should be wondering how many are aware that from June 20 U.S. warships, including the aircraft carrier Harry S. Truman, escorted by one or more nuclear submarines and other warships carrying missiles and cannons more powerful than the old battleships used during the last World War between 1939 and 1945, have been moving toward the Iranian coast via the Suez Canal. This movement of the Yankee naval forces is accompanied by Israeli military ships, carrying equally sophisticated weaponry, intended to supervise any vessel involved in the import or export of commercial products required by the Iranian economy for its operations.[…] I initially thought, as I analyzed the current situation, that the conflict would start at the Korean peninsula, where the second Korean War would break out, and that another war would immediately follow; the one that the United States would impose on Iran.

Now, we are witnessing a different turn of events: the war in Iran will immediately spark off that of Korea.

-Former Cuban leader Fidel Castro, Granma, June 25, 2010

Throughout June, Cuba’s former revolutionary leader turned tracksuit-wearing, all-purpose pundit wrote a series of columns predicting that the world was on the brink of a nuclear war. First, he surmised that the United States had engineered the sinking of the South Korean vessel Cheonan to create a pretext for attacking North Korea. Then, he seemed to change his mind, theorizing that Israel and the United States would “take advantage of the enormous interest aroused by the football World Cup” in South Africa to prepare an attack on Iran that would then spark a nuclear conflict on the Korean peninsula. In either scenario, it looked like a rough summer.

By July, Castro admitted that he had jumped the gun a bit by predicting nuclear conflict by the end of the World Cup, but said he still felt that an atomic Armaggedon was imminent. “When something like this [nuclear war] begins, all the responses are preprogrammed. … It is only a question of seconds,” he told a group of visiting foreign ministers. In August, he was still warning of an imminent nuclear war in Korea and Iran during a rare appearance before the Cuban parliament, though given that he also repeatedly referred to Russia as the U.S.S.R. and said that the Big Bang happened 18,000 years ago in the same speech, some skepticism is probably warranted

“Once that uranium, once those fuel rods are very close to the reactor, certainly once they’re in the reactor, attacking it means a release of radiation, no question about it. … So if Israel is going to do anything against Bushehr it has to move in the next eight days.”

-John Bolton, Fox Business Channel, Aug. 17, 2010

The former U.S. ambassador to the United Nations made this list last year for repeatedly pronouncing that Israel and the United States were running out of time to attack Iran’s nuclear program, a claim he’s been making since at least 2007. This year, he was at it again, declaiming the necessity of attacking the Iranian reactor at Bushehr, regardless of the fact that it’s a plutonium-powered reactor for civilian power and “does not represent a proliferation risk,” according to the U.S. State Department.

Worse, although Bolton’s initial timeline for attacking Bushehr was eight days from Aug. 17, later the same day, in an interview with Israeli radio, it had shrunk to three. But not to worry: Despite the many, many Rubicons that we have now crossed, Bolton still believes it’s a great time to bomb Iran

“There is a high probability that the collapse of the United States will occur by 2010.”

It might be easy to dismiss Panarin as a crank, but the former KGB analyst heads the Russian Foreign Ministry’s academy for future diplomats and is a fixture on mainstream media outlets in Russia. For years, Panarin has predicted that immigration, economic decline, and moral degradation would together lead to the demise of the United States in 2010. And he’s done so with remarkable specificity: His research led him to believe that in June or July, the United States would break into six pieces and that Alaska would finally return to Russian control. (The Palins are undoubtedly on high alert.)

Panarin’s theories started to get new international attention after the economic crash of 2008, but thankfully, America made it through the long, hot summer of 2010 (mostly) intact.

Why he should: Between the international economic crisis, ongoing wars in Iraq and Afghanistan, the continuing bloodshed in the Middle East and a brewing currency war, the Obama administration’s foreign policy in its first term has largely been a series of responses to crises, either new or inherited. Even what should have been a relatively uncontroversial arms control treaty with Russia turned into a knock-down, drag-out fight with Senate Republicans
In the coming year, major progress on these pressing issues is unlikely, so Obama should take the opportunity to focus on the positive in 2011. That means fence-mending visits to regions like Europe and Latin America, which have felt left out by the administration’s Middle East- and Asia-centric agenda. Obama should give human rights hawks within his administration, such as Samantha Power and Susan Rice, freer rein to call out abuses. He could also take advantage of one of the few perks of a Republican Congress and push to ratify trade agreements with close U.S. allies like Colombia and South Korea.

Why he won’t: The crises aren’t going anywhere. U.S. troops are still under fire in Afghanistan, and Obama is likely to come under criticism whether or not he honors next summer’s self-imposed deadline to begin withdrawing troops. And the longer Israel-Palestine goes without a settlement on final borders, the less likely a two-state solution becomes. Obama’s still going to be troubleshooting this year

HU JINTAO

Resolution: Prove the haters wrong

Why he should: China, which had already badly handled a censorship showdown with Google earlier in the year, ended 2010 on a low note with its petty and brutal response to jailed dissident Liu Xiaobo’s receipt of the Nobel Peace Prize. When even Premier Wen Jiabao is considered too controversial for public consumption, the Chinese government’s mistrust of its own people has clearly gotten out of hand.

The Communist Party has achieved a veritable economic miracle in recent decades, bring tens of millions of people out of poverty. There’s reason to think that China’s current rulers would still enjoy the support of their citizens if they were willing to open up. Why not make 2011 the year China proves it’s not afraid of criticism and loosen some of its onerous restrictions on freedom of expression?

Why he won’t: Because the current system is more or less working. As long as China’s economy continues to grow, the public stays quiescent, and other capitals continue to kowtow to Beijing’s wishes on questions like the Nobel Prize, there’s no incentive for Hu and the rest of China’s leadership to alter their behavior.

VLADIMIR PUTIN

Resolution: Give Dmitry a chance

Why he should: It would be too much to expect Russia’s authoritarian prime minister to turn into a democrat over night, but at the very least, he could give the elected leader of the Russian people — President Dmitry Medvedev — a change to actually govern. There are signs that if given the opportunity, the technocratic Medvedev might try to institute some much-needed liberal reforms without shaking up the power elite in a way that threatens Putin’s position. During the last year before presidential election season kicks off, why not give Medvedev a chance to actually be president?

Why he won’t: Because it’s not part of the plan. It’s looking increasingly likely that Putin will attempt to reinstall himself as president in 2012; this year, we should expect to see more, not less activity from the prime minister’s office.

SILVIO BERLUSCONI

Resolution: Quit while you’re ahead

Why he should: Right now, the 74-year-old Berlusconi’s incredible political saga seems set to end in one of two ways. He continues to govern — fighting off legal challenges to his sovereign immunity and threats to his ruling majority — until he dies in office. Or he’s forced from office and put on trial for one of the many, many charges against him. If he’s smart, Berlusconi will work out a grand bargain with the opposition in which he agrees to step down in exchange for immunity from prosecution and lives out the rest of his days in pleasant debauchery.

Why he won’t: He doesn’t trust the judges. The judiciary is the one branch of Italian government where Berlusconi doesn’t have any friends. The moment he becomes a common citizen again, he has to expect the judicial branch to come after him, deal or no deal. Plus, Berlusconi has never expressed any remorse for the transgressions of which he has been accused and seems to view the prime minister’s office as his birthright. He won’t give it up without a fight.

DAVID CAMERON

Resolution: Ease up

Why he should: Cameron was as good as his word this year, unveiling a deep set of cuts to government services, the civil service, and the defense budget, and increasing university tuition as part of an ambitious austerity program. But the fees increase, in particular, brought young Britons out onto the streets in scenes reminiscent the late 1960s. If the government goes through with further planned cuts, he risks fracturing his fragile coalition with the Liberal Democrats and even losing support from his own party.

It’s time for Cameron to prove that his “Big Society” vision is about more than just cutting services. Perhaps one place to start is immigration. As the case of Stockholm bomber Taimour Abdulwahab al-Abdaly shows, Britain has an ongoing problem with the radicalization of Muslim immigrants. The Cameron government, not seen as touch-feely on immigration issues, could make the integration of Britain’s Muslim community a major priority.

Why he won’t: The Cameron government views deep cuts as an economic necessity, given the country’s still-high level of public debt, political consequences be damned. Plus, British votes overwhelmingly support further restrictions on immigration.

BENJAMIN NETANYAHU

Resolution: Think big

Why he should: A politician of the Israeli prime minister’s stature and ego doesn’t want to be remembered as one of a series who held the line against a peace deal while the two-state solution died on the vine. Netanyahu needs to move beyond this year’s back-and-forth over a settlement freeze and push for a final resolution on borders before the Palestinian state simply declares its sovereignty unilaterally. This will involve standing up to both hard-liners in his own cabinet and the powerful settlers’ movement in the West Bank, but like his right-wing predecessor Ariel Sharon, Netanyahu may be uniquely qualified to explain the necessity of concessions to a skeptical Israeli public.

Why he won’t: Netanyahu still relies on the support of the far-right Yisrael Beiteinu party in his coalition, led by controversial figure Avigdor Lieberman. So far, there’s no sign that Bibi is willing to risk the fall of his government on the Palestinians’ behalf.

HUGO CHÁVEZ

Resolution: Be like Lula

Why he should: In the remaining hours of 2010, Chávez ought to look south, where Brazilian President Luiz Inacío Lula da Silva is stepping down with one of the highest popularity ratings on Earth. Chávez could have adopted Lula’s style of practical populism, combining generous social programs with support of trade and private industry and a foreign policy widely seen as independent, without falling back on kneejerk anti-Americanism.

Instead, Chávez has opted for old-fashioned Latin American leftism, which has left his country coping with economic distress and increasing international isolation. His once-unchallenged control on Venezuela’s legislature is now starting to slip. But it may not too late for the Bolivarian revolutionary to take a cue from his outgoing neighbor, ease up on private industry and political dissent, and let his country grow into the Latin American power it should be.

Why he won’t: Chances for political reform in Venezuela tend to rise and fall with oil prices, and those have been on an upswing lately. El presidente shows no signs of loosening up these days, having just pushed through new emergency decree powers for himself.

MAHMOUD AHMADINEJAD

Resolution: Be the hard-liner’s reformer

Why he should: It would be the ultimate irony if the man seen as the face of Iran’s hard-line Islamic regime became the agent of its undoing, but there have been signs lately of the president splitting from Iran’s clerical establishment. Ahmadinejad has been blasted by conservatives recently for criticizing Parliament and promoting an “Iranian” rather than “Islamic” school of thought. He has also accused other members of the government of “running to Qum [Iran’s religious capital] for every instruction.” The tensions came to a head over his recent firing of Foreign Minister Manouchehr Mottaki, who was widely supported in Parliament. Could Ahmadinejad build his conservative nationalist supporters into a movement capable of challenging Iran’s dominant theocracy?

Why he won’t: Despite growing fault lines between Ahmadinejad and the hard-line clerics and their allies in the legislature, he owes them for supporting him during last year’s election crisis and is unlikely to ever step too far out of bounds. Plus, there’s the supreme leader to worry about, and he still calls the shots.

KIM JONG IL

Resolution: Don’t start a war

Why he should: In the past, Kim has always been able to ratchet up tensions on the Korean Peninsula right to the breaking point, offering last-minute concessions and returning to the negotiating table to keep sanctions light and foreign aid flowing. But he may have gone too far this time. After this year’s sinking of the Cheonan warship and the shelling near Yeonpyeong Island, South Korean President Lee Myung-bak is under heavy pressure to retaliate against future attacks. North Korea wisely backed off its threats near the end of December, but any future military action could mean war. If nothing else, Kim should ratchet down the rhetoric out of his own family’s self-interest.

Why he won’t: It’s succession time. Chosen successor Kim Jong-Un is relatively unknown, and is closely identified with a disastrous currency devaluation scheme last year. The need to obtain military “victories” for the future leader may lead North Korea toward further provocations.

December 2, 2010

On Wall Street, the Great Recession didn’t last very long. Having sustained losses of $42.6 billion in 2008, the securities industry generated $55 billion in profits in 2009, smashing the previous record, and it paid out $20.3 billion in bonuses. In the spring of 2010, the Wall Street gusher continued to spew money. Between January and March, Citigroup’s investment banking division made more than $2.5 billion in profits. Goldman Sachs’s traders enjoyed their best quarter ever, generating an astonishing $7.4 billion in net revenues.

Barely a year and a half after the collapse of Lehman Brothers, Wall Street was once again doing well for itself—obscenely well, it seemed to many people. “For most Americans, these huge bonuses are a bitter pill and hard to comprehend,” noted Thomas DiNapoli, the comptroller of New York State, whose office tracks Wall Street profits. “Taxpayers bailed them out, and now they’re back making money while many New York families are still struggling to make ends meet.” In other parts of the country, Americans weren’t merely resentful; they were fiercely angry at the Wall Street bonus recipients and the politicians who had rescued them. (“Hank, the American people don’t like bailouts,” Sarah Palin, John McCain’s running mate, had warned Treasury Secretary Henry Paulson in October 2008.)

And yet, judged purely in economic terms, the Bush-Obama rescue program had proved fairly successful. Since July 2009, the Gross Domestic Product had been expanding steadily, confirming the predictions of recovery that Timothy Geithner and Ben Bernanke had made. The rate of growth was modest rather than spectacular—about 3 percent on an annualized basis—but it belied the doomsters’ prognostications. Measured by the economy’s overall output of goods and services, the recession had ended more quickly than expected. In May 2010, the Organization for Economic Co-operation and Development, an economic research body based in Paris, said that the world economy would grow by 4.6 percent in 2010 and 4.5 percent in 2011. Despite widespread fears of a “double dip” recession, the global recovery appeared to be continuing.

Aside from allowing Lehman to collapse, policymakers had avoided the mistakes of the 1930s. By injecting taxpayers’ money into struggling financial institutions and guaranteeing their debts, they had arrested the vicious cycle of falling prices of stocks and other assets, panic selling, and further falls in prices. By reducing short-term interest rates virtually to zero, they had halted a similar downward spiral in the real estate market. (With the cost of mortgage loans at historic lows, bargain seekers entered the market, putting something of a “floor” under prices.) And by introducing tax cuts and additional public spending programs, governments had counteracted the economy-wide vicious cycle in which tumbling demand for goods and services prompted firms to reduce their workforces, unemployment rose, and demand slipped further.

In Washington and other capitals, the authorities had demonstrated that at least for one year, Keynes had been right: economies suffering from a speculative bust didn’t have to be left to nature’s cure or, more accurately, to the markets’ cure, which Andrew Mellon, Herbert Hoover’s Treasury secretary, famously described as “liquidate, liquidate, liquidate.” But while the aggressive use of fiscal and monetary policy could be labeled “Keynesian,” other elements of the rescue program didn’t fit neatly into any model. The Fed’s innovative liquidity programs harked back to Walter Bagehot’s edict that central banks should lend freely in a crisis. Its resort, in order to bring down long-term interest rates, to buying up Treasury bonds and mortgage securities—so-called quantitative easing—was akin to the “helicopter drop” of cash that Milton Friedman had advocated as a cure for deflation.

The bank bailouts and other less visible subsidies to the financial sector weren’t associated with a particular economic creed: they were emergency measures that had been adopted reluctantly. Rather than relying on a particular theory of the crisis or a single policy tool, policymakers had adopted a flexible and pragmatic approach, trying a number of things together and adjusting the mix as they went along.

Only on Wall Street was the recovery palpable, however. In September 2010, 9.6 percent of the US workforce was still out of work, and that didn’t include more than eleven million people who had stopped looking for jobs or who had been forced to accept part-time employment. Taking account of these people, the September 2010 rate of “underemployment” was 17.1 percent—about one in six. Even for those fortunate enough to be working, worries remained. Many households were saddled with mortgages bigger than the value of their homes. In Miami, real estate prices were about 50 percent below their 2006 peak; in Las Vegas, they were down 55 percent; nationwide, the decline was about 30 percent. Rather than going out and spending, many households and firms were hoarding cash and rebuilding their savings. In the second quarter of 2010, the annualized growth rate of US GDP fell back to 1.6 percent, raising more fears of a return to recession.

Across the Atlantic, meanwhile, the financial crisis had never really gone away. In the fifteen-country euro bloc, GDP fell 4.2 percent in 2009, compared to a decline of 2.4 percent in the United States. Modest growth returned during the first quarter of 2010, but another blowup in the markets quickly overshadowed it. As the recession deepened, many countries, the United States included, had run up huge budget deficits, which were starting to spook investors in government bonds. In early May, the European Union, together with the International Monetary Fund, completed a €110 billion (about $155 billion) lending package for Greece, where government spending exceeded tax revenues by about 13 percent of GDP. Far from calming the markets, the Greek bailout created fears of similar problems emerging in Spain, Portugal, and other heavily indebted European countries. With speculators continuing to short the euro, the EU hastily created a s750 billion stabilization fund, which could be used to aid other member governments that ran into difficulties funding their operations.

If this was a recovery, it was a fragile and embittered one. While the authorities’ response to the crisis had prevented a wholesale economic collapse, it had failed the political test of winning popular support—something Timothy Geithner freely admitted. “My basic view is that we did a pretty successful job of putting out a severe financial crisis and avoiding a Great Depression or Great Deflation type of thing,” the Treasury secretary told me in early 2010. “We saved the economy, but we kind of lost the public doing it.”

Given the nature of the policies that the Bush and Obama administrations had adopted, public anger was inevitable. By the end of 2009, almost all the big banks had repaid their TARP bailouts, but they continued to be the recipients of official largesse. With the Fed holding short-term interest rates at virtually zero, firms like Citigroup and Goldman Sachs could borrow money from one arm of the government (the Fed) or from investors (by issuing short-term commercial paper) for next to nothing and, by purchasing US bonds, lend it to another arm of government (the Treasury) at an interest rate of 3 or 4 percent. By playing “the spread,” any moderately competent Wall Street trader could generate large returns for his desk and a big bonus for himself without actually doing what banks are supposed to do: furnishing money to firms and funding capital investments. While bank profits were soaring, many businesses and individuals were still finding loans hard to come by.

The other losers in this game were those who had cash stashed in a savings account or money market mutual fund. “What we have right now is a situation where every saver in the country is, essentially, paying a huge tax to bail out the banking system,” noted Raghuram Rajan, the University of Chicago economist who, back in 2005, had issued a fateful warning about the dangers of a financial blowup. “We are all getting screwed on our money market accounts—getting 0.25 percent—and the banks are making a huge spread on nearly every asset they hold, because they are financing them at pretty close to zero rates.”

The Obama administration didn’t come out and say so, but enabling the banks to make big profits was one of its policy objectives. Rather than seizing control of sickly institutions, such as Citi and Bank of America, it had settled on a policy of allowing them to earn their way back to sound health, while also encouraging them to raise money from private investors. This was the rationale behind the controversial “stress tests,” which the Treasury Department and the Fed carried out in the spring of 2009; they were intended to find out how much new capital the banks needed to survive a deep recession.

In May 2009, when Geithner announced that the ten biggest US banks needed to raise just $75 billion, many economists had accused him of understating the banks’ remaining holdings of toxic assets. In fact, the official loss estimates were similar to those produced by independent analysts. But the government stress testers were assuming that other parts of the banks’ businesses, particularly their trading operations, would record greatly enlarged profits in 2009 and 2010, which would help them withstand big losses in real estate and commercial lending. Buried in the Treasury’s official report on the stress tests was the prediction that Citigroup’s net revenues in 2009 and 2010 would exceed by $49 billion its provisions for losses through bad loans. For Bank of America, the projected profit figure was $75.5 billion. For Wells Fargo, it was $60 billion.

When these enormous profits duly materialized and the banks distributed some of them to their employees, the public was outraged. Critics accused the Obama administration of overlooking less offensive options for stabilizing the financial system. One idea, widely canvassed in early 2009, would have been to seize control of troubled firms, move their tarnished assets into a state-run “bad bank,” and eventually refloat them on the stock market as smaller, healthier institutions. Twenty years previously, during the savings and loans crisis, this approach had been adopted successfully. Theoretically, it would have enabled the government to fire reckless bank managers, wipe out bank shareholders, and impose a “haircut,” i.e., a reduction in repayments, on bank creditors, thereby punishing the guilty rather than rewarding them with a bailout. “While the Obama administration had avoided the conservatorship route, what it did was far worse than nationalization: it is ersatz capitalism, the privatizing of gains and the socializing of losses,” the Nobel-winning economist Joseph Stiglitz wrote in his 2010 book, Freefall: America, Free Markets, and the Sinking of the World Economy.

Members of the administration countered that its critics had greatly underestimated the practical difficulty of pursuing the nationalization option. If the government had seized Citigroup, one senior Treasury official told me, it could well have created creditor “runs” at other banks suspected of being on the government target list. The only way to prevent this from happening, the official said, would have been to spend $3 trillion and take over all the big banks. That figure may be an exaggeration, but the fear of sparking another financial crisis was a real one, and so were the political concerns of the White House and the Treasury Department. Neither President Obama nor Geithner had any appetite for a policy that smacked of radicalism and big government.

Paul Volcker; drawing by John Springs

From an economic viewpoint, the most serious problem with the rescue programs was not that they further enriched the loathed bankers but that they exacerbated some serious incentive problems at the heart of the financial system. By extending trillions of dollars in loans, capital injections, and debt guarantees to troubled firms, the US government and its counterparts overseas had greatly extended the public safety net for banks and other financial entities. Left unchecked, this expansion will surely lead to more blowups, followed by even bigger bailouts.

The problem is one of rational irrationality. Once people in the financial sector come to believe that the government will cap their losses, they have an incentive to step up their risk-taking, what is called “moral hazard.” Simply announcing that there won’t be any more bailouts won’t solve the problem, a point noted by two Bank of England economists in an important paper published in November 2009. Policymakers may say “never again,” wrote Andrew Haldane and Piergiorgio Allesandri,

but the ex-post costs of crisis mean such a statement lacks credibility. Knowing this, the rational response by market participants is to double their bets. This adds to the cost of future crises. And the larger these costs, the lower the credibility of “never again” announcements. This is a doom loop.1

The Dodd-Frank Wall Street Reform and Consumer Protection Act, which President Obama signed in July 2010, while containing many worthwhile individual measures, didn’t really get to grips with this problem. Taken overall, the reform effort amounts to tinkering with the existing system rather than fundamentally reforming it. Any comparison with FDR’s regulatory response to the Great Depression is specious. By the end of Roosevelt’s first term, the financial system had been transformed. The House of Morgan and other big banks had been split up into their investment banking and commercial banking components; through the newly founded SEC, the government was exercising close supervision of Wall Street; through the Reconstruction Finance Corporation, which had acquired and kept equity stakes in many big financial firms, it was forcing reluctant bankers to extend credit; and through the Justice Department, it was prosecuting a number of prominent financiers. Today the financial system looks overall pretty much the same as it did in 2007, even though at the end of 2010 there are fewer independent Wall Street firms than there were a few years ago, and the survivors have a bit less freedom to maneuver than they used to have.

Overseas, the same is true. For all their attacks on American free-market dogmatism, European and Asian governments have shown little inclination to clean up their own financial systems. The big European countries, in particular, which have a lot of big multiservice banks, lobbied strenuously against any attempt to break them up. On the torturous issue of bank capital requirements, something similar happened. By September 2010, when new capital standards were announced, they were so modest that many big banks, having replenished their coffers, already satisfied them.

Here in the United States, after all the mergers that the government had orchestrated during the crisis, six huge firms—Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley, and Wells Fargo—now dominate the financial industry, wielding enormous market power and political influence. Together, their assets come to about 63 percent of GDP, some $9.2 trillion. The ratings agencies remain unreformed, and so do some of the myopic compensation packages for Wall Street traders and CEOs that helped bring on the crisis. The one really innovative idea that the administration had was to impose a hefty “pollution tax” on the risk-taking of financial institutions, which would have increased in proportion with their balance sheets. But it didn’t feature in the Dodd-Frank reform bill and has faded from view.

After all that had happened, the measures actually taken—forcing financial institutions to maintain more capital, shifting derivatives trading onto exchanges, and setting up a new agency to protect consumers from predatory lenders—were the least that could have been done. And even in those matters, the Dodd-Frank bill contained a number of sops to the financial lobby. The big US banks still don’t face any hard limits on the amount of debt they can take on; neither do their international competitors, such as Barclays, Deutsche Bank, and UBS. A significant but undetermined amount of derivatives trading is exempt from the new regulations, and the issuance and trading of naked credit default swaps—bets that a certain company or country will go bankrupt—remain perfectly legal. The new consumer protection bureau, rather than operating as a stand-alone body, in the manner of the Food and Drug Administration and the Environmental Protection Agency, is housed inside the Fed, an institution that failed abjectly in overseeing the mortgage market. (Confirming the old adage that nothing succeeds like failure, the Fed was also given new power to act as a “systemic risk regulator,” overseeing the activities of the biggest banks.)

During the debate on Capitol Hill, it is true, some steps were taken to toughen up the reform bill of Christopher Dodd and Barney Frank, notably the inclusion of the so-called Volcker Rule, which prohibits banks from proprietary trading and places limits on how much money they can invest in hedge funds and private equity funds. Depending on how this directive is enforced, it could prompt Goldman and Morgan Stanley to give up the commercial banking licenses they acquired in 2008 and revert to being investment banks. Bank of America, Citi, JPMorgan, and Wells, which are much more invested in commercial lending, will have to scale back their proprietary trading desks. Citi has already done so. (As of now, both Goldman and Morgan Stanley appear determined to keep their banking licenses. To that end, they have been letting go of some proprietary traders and reassigning others.)

Former Fed chairman Paul Volcker’s laudable idea, which the White House adopted at the start of 2010, was that nondepository institutions shouldn’t be allowed to shelter under the government safety net, and, legally, at least, they won’t be able to. The US government now has the power, during a crisis, to take them over and close them down. (At the time of the collapse of Bear Stearns and Lehman Brothers, this authority was lacking.)

However, it is one thing to empower the Treasury and the Federal Deposit Insurance Corporation to fire senior bankers, wipe out stockholders, and impose losses on creditors. It is quite another thing for the authorities to exercise these powers. If Goldman, say, was to run into serious trouble shortly after giving up its banking license, it is hard to believe that the Treasury and Fed would shut it down and let the dominoes fall where they may. If markets were plummeting and creditors, depositors, and other counterparties were rushing to liquidate their positions, the authorities would come under enormous pressure to prop up the firm, or find a healthier rival to take it over. Then we would be back to September 2008.

Despite the best intentions of Volcker and others, the big six banks and an undetermined number of other financial firms are almost certainly still too big to fail. Taxpayer rescues of systemically important institutions can’t be legislated away: the real issue is what can be done to reduce the likelihood that such measures will be needed. Apart from regulating individual lines of business that involve big risks, a tricky enterprise in the best of times, the options are either to greatly reduce the leverage that banks can take on or to break them up, so the failure of any one of them would no longer pose an insurmountable risk to the system.

Neither of these ideas is exactly revolutionary. Practically everybody agrees that excessive leverage played a key role in the crisis, and the idea of splitting up the largest banks has won the support not just of progressive economists but of the British Conservative Party, which formed a coalition government in May 2010; of Mervyn King, the governor of the Bank of England; and even of Alan Greenspan, the former Fed chairman. If the banks are “too big to fail, they’re too big,” Greenspan said in October 2009, and he went on to say, “In 1911, we broke up Standard Oil. So what happened? The individual parts became more valuable than the whole. Maybe that’s what we need to do.”

But far from insisting on drastic reductions in leverage and smaller banks, the Obama administration connived against measures designed to bring these changes about. Senator Susan Collins, of Maine, and Senator Blanche Lincoln, of Arkansas, both proposed amendments to the Dodd-Frank bill that would have forced the biggest banks to hold substantially more capital—and real capital, not hybrid securities that are more like debt. After the Senate passed the Collins and Lincoln amendments, the White House and Treasury pushed Congress to drop them from the final legislation. A move to break up the biggest banks, such as Wells Fargo and Bank of America, which was sponsored by Senator Ted Kaufman, of Delaware, and Senator Sherrod Brown, of Ohio, didn’t even get that far. The Democratic leadership in the Senate joined with Republicans to kill the amendment, which was voted down 61–33. “If we’d been for it, it probably would have passed,” a senior Treasury official told New York magazine. “But we weren’t, so it didn’t.”

Utopian economics is on the defensive, just like it was in the 1930s, but it is too early to hail the triumph of reality-based economics. For one thing, the political environment is very different from the one that Roosevelt and Keynes operated in. During the Great Depression, many of the unemployed went hungry, and there was real desperation: it was widely accepted that free-market dogma had failed and that the authorities should step in to put things right. Despite its global scope, the Great Recession doesn’t really compare with the Great Depression, and many ordinary people remain suspicious of government interventions to correct market failures.

Indeed, the summer of 2010 saw a powerful reaction against Keynesian deficit spending. On both sides of the Atlantic, there were calls for an end to stimulus programs; in Germany and Britain, the center-right coalition governments of Angela Merkel and the newly elected David Cameron moved to cut public spending and raise taxes. Partly a reaction to the Greek debt crisis, this policy turnaround also resurrected the “Treasury view” of the late 1920s and early 1930s, which saw the main threat to economic recovery not as a shortage of overall demand but as a dearth of confidence in the public finances on the part of businessmen and investors. With the triumph of Keynes’s “General Theory,” this argument had seemingly been consigned to history, but here it was again, modified hardly at all, on the lips of conservatively minded economists, commentators, and policymakers. “Germany has never agreed to an austerity package to this extent, but these cuts have to be made in order for the country to establish a stable economic future,” Chancellor Merkel said in announcing the German budget cuts.

To be sure, budget deficits equal to 10 percent of GDP or more, which some countries, such as the United States and Britain, were running, couldn’t be sustained indefinitely. (Germany’s deficit was much smaller: less than 5 percent of GDP.) But the best way to bring down deficits is to get the economy going again, which leads to higher tax revenues and lower spending on unemployment benefits. Shifting to retrenchment in the form of major budget cuts during the early stages of a recovery would smack of the mistake that the second Roosevelt administration made in 1936–1937, when, giving in to Wall Street orthodoxy, it slashed spending and raised taxes to balance the budget, only to see the US economy plunge back into recession.

The economists advising President Obama tried to resist the shift toward austerity policies. In an article in the Financial Times last July, Lawrence Summers, the outgoing head of the National Economic Council, pointed out that reviving growth and reducing the deficit were complementary rather than competing objectives. “Reducing the spectre of prospective deficits will enhance near-term growth,” Summers wrote. “And ensuring adequate growth in the near term will reduce long-term deficits.” In September 2010, the US administration proposed another round of tax cuts and infrastructure spending. But as the midterm elections approached, this initiative went nowhere.

Without the original $787 billion stimulus program passed under Obama, the public finances and the overall economy would certainly have been even weaker. Persuading the public to take account of what might have happened is far from easy, however, and opinion polls showed that most Americans agreed with conservative economists who said that the stimulus program had failed. The economic arguments put forward against the stimulus, such as the claim that increases in government spending generate offsetting falls in private spending, were largely specious; but they jibed with the ordinary American’s feeling that many, if not most, tax dollars are wasted.

After the Republicans’ big gains in the midterm elections, the prospects for a second stimulus package seem grim. For the embattled White House, one option that has been mooted is to propose new measures in the lame-duck session of the 111th Congress, which sits until January 2011, and to invite the Senate Republicans to oppose them with a filibuster. For example, the President could continue to insist that the Bush tax cuts for the rich should be allowed to expire at the end of this year, and to propose offsetting that tax increase with a big cut in the payroll tax, which is a tax on jobs.

Another option, which might have a better chance of succeeding, would be to offer the Republicans a deal under which a new stimulus package—a combination of tax cuts and spending increases—would be coupled with a temporary extension of the Bush tax cuts. To say the least, the politics of any such arrangement, which would increase the budget deficit on a short-term basis, would be complicated.

One thing is clear, though: the economy needs more help. In the third quarter of 2010, the overall level of demand for goods and services produced in the United States expanded by just 0.6 percent on an annualized basis. (A surge in accumulation of inventories—goods prepared for sale that are still sitting in factories and stores—boosted the GDP growth rate to 2 percent.) In plain English, the economic recovery has faltered badly. Relying on Ben Bernanke and his colleagues at the Federal Reserve to get it going again is a very risky strategy—akin to asking the pilot of jetliner that has stalled in the middle of the Atlantic to fly the rest of the way on one engine. Things might just work out. But if the other engine can also be restarted—and it can be—why take the risk?

May 31, 2010

Look at China’s response at the weekend, for example, to the latest outrage by its ally, North Korea. The regime of Kim Jong-il made an unprovoked torpedo attack on the South Korean navy corvette, the Cheonan, killing 46 crew.

Pressed at the weekend by the leaders of Japan and South Korea to discipline North Korea, the Chinese Premier, Wen Jiabao, conspicuously declined. He refused even to acknowledge North Korea’s culpability, which has been affirmed by a five-nation investigation by marine experts.

Wen emerged from a summit with Japan and South Korea on Sunday to say that “the most pressing task now is to appropriately deal with the grave impact of the Cheonan incident, gradually ease the tense situation and, especially, avoid clashes”.

The problem is that the clash has already happened. And, once again, China, the only big power with any real influence over Pyongyang, is showing no inclination to restrain its rogue client.

China pretends that the status quo is peaceful, rather than acknowledging that the status quo is actually a highly destabilising series of North Korean provocations, attacks and killings. And the aggressor is its ally.

By taking this approach, Beijing demonstrates that it cares more for power than peace. It protects its dangerous client to preserve its own sphere of influence. This is not the behaviour of a great power that wants to reassure its neighbours.

Speaking of countries’ reactions to China’s growing power, Michael Wesley observes: “There is a logic here, and it’s paralleled by a lot of other countries in the region – as countries’ economies become ever more enmeshed with China’s, the feeling of ambivalence towards China becomes ever more pronounced.

“Countries seek to construct offsetting relations with other powers. That’s the case in Australia, but also in Vietnam, India, Indonesia and other south-east Asian countries.”

The Lowy poll confirms that Australians are increasingly anxious about China’s rise. On the one hand, Australians have made an unprecedented acknowledgment of its economic ascendancy, and at the same time express growing alarm at its intentions.

Asked if China’s aim is to dominate Asia, 60 per cent of Australians last year said yes. This year that proportion had risen to 69 per cent.

Should Australia, the pollsters asked, join other countries to limit China’s influence? Last year 51 per cent replied yes; this year 55 per cent did.

Similarly, about two-thirds of Australians disagree with the proposition that Australia’s interests would not be harmed by an increase in China’s power. And a rising majority – up from 50 per cent last year to 57 per cent this – of Australians say that the government is allowing too much Chinese investment.

The more Australians see of China’s power, the more anxious we become about the consequences. And the more we resist its encroachments.

Will China, the pollsters asked, become a military threat to Australia in the next 20 years? A minority, 46 per cent said yes, but the minority is fast becoming a majority, up by 5 percentage points in a year.

So it’s probably no coincidence that the same poll also shows the level of Australian public support for the ANZUS alliance is at its highest in the five-year history of the survey.
The more we fear China, the more we look to the US for reassurance, it seems. This puts the Australian government in an increasingly conflicted position. As China becomes economically more powerful, how should Canberra nevertheless retain a strong alliance with America?

Wesley suggests that the trick is for Washington to understand the pressures on Canberra, and for “the Americans not to expect Australia to make ever more explicit statements of allegiance”.

Yet that seems to be exactly what the Australian public increasingly wants – a clear US alliance as a strategic chaperone to our hot Chinese dalliance.